Revisiting the Money Pit
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Key Capital Private, Investment Note #41
Revisiting the Money Pit
A couple of years ago, we wrote about how, as profit-seeking endeavours, sports teams have not been great investments. Although we now recognise the formatting of that particular note had an unbecoming lack of polish, we have as yet had no cause to revise the thesis. That’s not for want of trying, mind you; in the intervening time a raft of new deals and initiatives to further monetise sports teams have come along, with mixed success. Gianni Infantino is facing a criminal probe after he attempted to sell a stake in the World Cup. In the US, private equity companies have moved past the pro leagues and are now trying to take stakes in various college sports leagues, and several deals for major professional sports franchises (the Lakers have been sold twice in the last year!) have been struck at nosebleed valuations.
Having said that, there have been some interesting developments in the space that might create the structure for fans/investors of more modest means to get exposure to the asset class.
But before jumping into the details, it is worth touching on some of the appeal of sports clubs from an investor's perspective. As noted in our original piece, sports clubs have a couple of features which make them unlike other businesses. First, they are largely immune to the business cycle; people don’t stop supporting their team if the economy’s bad. Sports clubs are also either oligopolistic or outright monopolies, and as a result unlikely to be disrupted by upstart leagues – see LIV Golf's failure as evidence. Finally, sports teams have an unusually captive audience; for many, ‘their’ team takes up a lot more headspace than, say, Coca-Cola, giving these clubs incredible brand value.
Despite these advantages, sports clubs as businesses have been pretty dismal. There are several publicly listed sports clubs in both the US and Europe; their returns, across the board, have ranged from underwhelming to outright capital-destructive.
Despite the track record, large owners of capital clearly have an appetite for sports exposure, and the market will try to satisfy it. FutureSports is the latest example of that effort; they aim to turn team performance into an index, which can then be used as a benchmark for ETFs or any other financial product. The pitch is that each team, or even individual athlete, would have their own index which would rise or fall based on clear objective statistics; goals scored, games won, clean sheets, etc. Unlike betting, these indices are continuous values rather than binary outcomes, meaning that at least nominally, an owner benefits from the performance of their invested team over the course of a season rather than taking a bet on an individual game.
At the moment, we don’t know what kind of returns would be on offer for potential investors. FutureSports intends to launch the indices first for professional hockey; they’ve teamed up with the CME Group to launch the “CME FSCPI Sports Index and Futures” for all 32 teams in the NHL, and, per Bloomberg’s Eric Balchunas, there are at least three ETF providers launching ETFs for every one of those teams as early as October.
Now one might point out that a big drawback of these ETFs, unlike, say, a more traditional stock ETF, is that there is no underlying equity ownership. In another area, we might agree that would be a big issue, but as noted at the top – as businesses, sports clubs are woeful, and so the fact that these ETFs don’t offer a real ownership opportunity is not that big a problem. The bigger issue is that the proposed structure of the ETFs are futures-based.
This changes the way the ETFs would work, or at least it changes the way the returns work. In a regular ETF, you buy, and then if the price goes up or down, that’s your return – easy. In a futures-based ETF, though, the return is based on the market's prior expectations of performance. If the market is already pricing that the Ducks are championship favourites and they fall short, ETF returns will be negative. This means that you not only need to choose a team which will do well, but one which will exceed expectations, which are obviously two very different things.
So for now, these ETFs are little more than curiosities, given they kind of fall between two stools; they probably aren’t high-octane enough for gamblers and aren’t structurally right for investors, so the odds of these team-specific ETFs catching on seem slim, but who knows. If providers can sort out the spot vs futures issue, then maybe they’ll be worth a more serious look. Until then, though, we’ll keep an eye on it from the sidelines. The collective Key Capital ice hockey knowledge begins and ends with the Mighty Ducks, so if for nothing else we might at least learn why all teams don’t use the Flying V.
This is a Marketing Communication provided for general information only. It does not constitute investment research, advice or recommendation.
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